Quiz – Business Combination and Equity Investments
For each of the following consider whether there is a controlled entity and if so, who should consolidate it.
A owns 100% of the equity share capital of B, giving it rights to receive dividends that vary with B‘s performance. A holds all the equity voting rights in B. Voting rights are the means by which B‘s management board is appointed.
Both C and D own 50% of the equity share capital of E, giving them rights to receive dividends that vary with E‘s performance. C and D share voting rights equally. C and D make a contractual agreement under which C appoints E‘s management board. The management board directs E‘s relevant activities.
H is a retail company. With support from Bank B, H sets up Special Purpose Entity J. H transfers pools of receivables to J in exchange for cash; receivables transferred must satisfy certain criteria in relation to credit quality. Under this revolving structure, when transferred receivables are settled, further receivables are transferred to J.
J‘s funding comprises interest-bearing debt securities secured on the receivables. There are senior (Tranche 1) securities which are owned by Bank B and other market investors and which give holders priority in the event of default by J. H holds Tranche 2, the junior securities, which are exposed to the majority of expected risks (slow payment, default) relating to the receivables.
H maintains the customer relationships with the counterparties to the receivables who are unaware of the securitisation. H retains responsibility for managing the receivables, including renegotiating terms with counterparties who are experiencing financial difficulties.
A third-party servicer is employed to collect the receivables and pass on the cash to J.
In 2010, A had a 50% equity interest in B and had key management representation on the board of directors. The remaining 50% of equity interests in B were listed on the KLSE. How should A have treated their investment?
X holds just 44.6% of Z. Z made a huge loss in FY2016. That lack of a majority has allowed X not to include Z in X’s consolidated financial statements. But in FY2016, Alan, a veteran in X, has been appointed to be President of Z. In this case, should X include the unprofitable firm in its consolidated financial statements?
Here is the answer of this quiz.